Iran financial services

Iran: Banking sector risk

The banking sector risk rating is unchanged at CCC, although the underlying score has deteriorated by one point, as the event risk surrounding the US's commitment to the nuclear deal has risen, following Mr Trump's decision to waive nuclear sanctions "one last time". The reintroduction of such sanctions could dramatically lower Iran's oil exports, driving liquidity and hard-currency shortages in the banking system. In January 2016 Iran's banks were reconnected to SWIFT, an international clearing mechanism, which will improve their ability to operate abroad. However, efforts by Bank Markazi to strengthen banking governance and transparency are being undermined by a failure to make progress on recapitalisation of the sector. Iran's banking sector has long been lumbered with weak balance sheets and doubtful loans—largely a consequence of state intervention in lending. With this in mind, the IMF has called for an "urgent" restructuring and recapitalisation of the country's banks. However, such an outcome appears some way off, despite the government's move to boost the sector's balance sheets by paying down overdue state debts to the local financial sector. Notably, despite declining steadily over the past three years, the non‑performing loan (NPL) ratio is still at around 10%.

Positive factors

The lifting of sanctions has led to most Iranian banks being reconnected to the international financial system. In addition, multiple national export-import banks have offered to provide financing and insurance for firms wishing to do business in Iran.

Negative factors

Although several Asian and Arab banks have begun dealing with Iran, most Western banks continue to be deterred by the huge fines levied by the US in the past. Among the US restrictions that still apply are those that prohibit US institutions from clearing US dollar transactions involving Iran (a ban that also covers non-US banks assisting US citizens or entities).

The sector remains weak, with the state-owned banks reporting a capital adequacy ratio of 6% in 2016 (the latest available data), compared with the Basel III minimum of 8% and an average of around 12-13% in the region (although private commercial banks had a rate of closer to 10%).

Rating outlook

Any upgrade will depend on whether Bank Markazi's proposals to improve transparency and governance in the commercial banking sector are approved and the country's most frail state banks are recapitalised. The central bank is seeking to attract well-established foreign banks into Iran. However, deterred by earlier fines during the sanctions era, they will be slow to arrive. In this context, a failure of banking reform initiatives, a renewed downturn in oil prices, or the complete collapse of the nuclear deal could all lead to a downgrade.